Tata Tea: A heady brew

Tata Tea is transforming itself from a plantation player into a global brand

Tata Tea's proposed $1 billion overseas acquisition will be yet another giant step in its steady transformation from a commodity-producing plantation player into an enterprise owning and marketing global tea brands.

Hints of the new acquisition had been evident in the company's annual report for 2005-06, which provides several clues about the direction that the company was taking.

The report mentions threats that the company faces on account of the lack of entry barriers in the business, and it proposes to counter that threat "by establishing a competitive edge in specific domains."

This can be done by acquisitions. The report also talks of the "steady decline in mainstream black tea consumption" and the need to grow in green, herbal, fruit and speciality tea markets.

While increasing opportunities for growth, the company is also trying to transmute its plantation operations""-the annual report points to the Sri Lankan Watawala plantations that have "substantial revenue streams from oil palm, value-added exports, rubber and tea" to "highlight how the cost disadvantage of standalone tea plantation activity can be overcome."

The company is trying to work out similar packages for its North-Eastern plantations, having previously divested its South India plantations.

With speciality tea consumption growing rapidly and fetching far more than ordinary black tea, and with Tetley's rivals Lipton and Twinings having a broader range of speciality teas, an acquisition in that space would make a lot of sense.

Also, with Unilever being present in far more countries than Tetley, buying brands or companies in new geographies is also an attractive proposition, especially in the US, where tea import growth, at 5.3 per cent, was double that of the European Union.

Ingersoll-Rand open offer

Ingersoll-Rand plans to buy out minority shareholders in its 74 per cent subsidiary, Ingersoll-Rand (India), at a price not exceeding Rs 325 a share. The news sent the stock soaring by 20 per cent to Rs 339, up from Rs 282.5 on Tuesday. The markets clearly expect the parent company to revise its offer price.

But it's important to note that the price Ingersoll-Rand is willing to offer is nearly 20 per cent higher than the stock's 26-week average prior to the announcement, which roughly works out to Rs 274 a share.

Also, the company EPS last fiscal was just Rs 6.86 per share before exceptional items, which puts its valuation at 47 times based on the offer price. Its peers get a much lower valuation of about 20 to 22 times FY05 earnings.

The company had earlier reported a mere 7.62 per cent growth in its profit before tax to Rs 12 crore in the June quarter, despite net sales expanding 15.46 per cent. Profit growth lagged sales growth thanks to a 24 per cent jump in raw material costs to Rs 82.45 crore in the last quarter.

A larger turnover helped operating grow 9.5 per cent to Rs 7.17 crore in the last quarter, but higher input costs led operating profit margin to shrink marginally to 6.37 per cent.

No doubt, the company would benefit from the upturn in the domestic capex cycle in the medium term, but the open offer price more than adequately factors in these growth opportunities.

Long-term investors, who have held the stock for more than a year, need to note that it makes sense to exit the stock at current levels, unless they expect the offer price to be raised to more than Rs 377.

This is because they would have to pay tax when they tender shares off-market in the open offer, while stock market transactions are tax-free.

Telecom growth

Subscriber additions in the GSM segment have jumped sharply for the second month in a row. In July, GSM players added 1.95 million subscribers, the highest-ever addition in absolute terms.

In percentage terms, last quarter's month-on-month subscriber growth of 4.35 per cent was the highest in the last 10 months. Two of the top three players, Bharti and Hutch, reported record subscriber additions.

It's important to note that both players had launched Rs 200 pre-paid recharge coupons in May this year with a validity of one month. Before that, one had to pay a minimum of Rs 330 to stay connected for one month.

This has brought down an important entry barrier, and has kicked off pre-paid subscriber growth.

Even handset prices are now much lower, and have fallen below the crucial Rs 2,000 mark.

Tariffs, of course, have dropped considerable since last year, both for local as well as inter-circle calls.

Besides, companies such as Bharti have got more aggressive with network expansion lately. Last quarter, Bharti had another 400 towns under its coverage, taking its total coverage to 2,700 towns.

It plans to extend its reach to 4000 towns by the end of this fiscal. Since this has coincided with a lowering of the entry barrier, growth has exploded.

Analysts expect the benefit of these two factors to remain for 18 months or so. Of course, the new subscribers will be less profitable than existing ones, which is expected to result in a drop in profitability.

Bharti's stock price jumped over 4 per cent to Rs 303.5 on Wednesday, taking the company's valuation to nearly Rs 60,000 crore or about 13 times estimated EBITDA for FY06. The markets seem to expect that high growth would continue for a long, long time.

With contributions from Amriteshwar Mathur and Mobis Philipose